Stressed assets in the Indian banking system have increased to an all-time high. During the six months ending September 30, 2013, gross non-performing assets and restructured advances increased to 10.2 percent of total advances, adding up to over INR 6.3 trillion (US$100 billion).
What is becoming clear is that corporate indebtedness in India is a serious issue, impacting banks, manufacturing industries, infrastructure providers and the economy. Stressed assets also offer an opportunity to revisit the system’s fundamentals.
Harm to the Industrial Sector
To learn more about the issues shaping India’s stressed asset market, Alvarez & Marsal (A&M) conducted extensive research and a survey of executives from banks, asset reconstruction companies, special situation advisories and restructuring experts. Our research findings culminated in a detailed report, Outlook for Stressed Assets Markets in India.
The report reveals that private and foreign banks have fared better than public sector banks in terms of credit evaluation and stressed asset management. Growth of non-performing assets in India’s non-priority economic sector has outstripped that in the priority sectors, which includes agriculture and small-scale enterprises. A&M also pinpointed the industrial sector as showing the highest incidence of stress. Borrowers in infrastructure – especially power – as well as iron and steel have also been struck. In addition, the textile industry has been deeply affected. Stalled projects, delayed policy decisions and economic slowdown are among the reasons for these problems.
The Impact on Bank Profitability
Non-performing assets affect bank profitability in two ways – loss of income and provisioning for the loss of value of those assets. Public banks have been hit hardest, according to data over the past eight quarters. India’s government regularly infuses capital into public banks to shore up depleted reserves. This lowers the ability of banks to lend to borrowers that require capital to expand their businesses, which would create economic activity and jobs. In addition, the capital infusions may translate into a higher burden for taxpayers.
Corporate debt restructuring (CDR) cell and bilateral restructuring are the most favored alternatives to address stressed assets. Under the CDR cell, standard assets are restructured more often than non-performing assets. CDR has guidelines and is generally a time-bound process. Lenders in a consortium generally prefer it because they can extend the maturity of loans without making provision. Borrowers prefer this route as well, as there is no impairment to the promoters’ equity and the additional time affords an opportunity to grow into the capital structure.
One-time settlements have been used less due to the immediate write-off that needs to be undertaken for the difference between the amount recovered and the total obligation. Between 2002 and 2005, selling to asset reconstruction companies (ARCs) was a popular route to address non-performing assets, but these sales yielded poor returns.
The Biggest Challenge
In general, banks’ efforts to reduce stressed assets have not generated expected results – with indicators pointing to delayed recognition of stress. Easy access to CDR has encouraged deferral of core issues, and checks at the beginning and during the restructuring process have been few. There is an urgent need for early recognition and management of stressed assets, robust credit appraisal, post disbursement monitoring and sound evaluation of restructuring cases.
Further, creditors find their hands tied when enforcing management changes. In A&M’s survey of leading banks, respondents identified dealing with promoters as the biggest challenge in restructuring assets. They also criticize the lack of clear guidelines to aid swift restructuring.
The other significant challenge is particular to special situation and stressed asset funds. Special situation funds have capital available for stressed assets, but so far their involvement has been limited due to promoters’ lack of credibility, financial irregularities and other difficulties. Exit through sale of distressed assets to asset reconstruction companies is also underutilized. This is primarily due to the large valuation gap between buyers and sellers. Guidelines on the valuation of non-performing assets need to be improved. Creditors also find it difficult to enforce financial rules due to legal loopholes and delays.
A Regulatory Framework
Over the past year, the Reserve Bank of India (RBI), the Ministry of Finance and the media have spotlighted the stressed asset situation. Legislative efforts in the Companies Act 2013 have been aimed at legal reforms through a National Company Law Tribunal and detailed guidelines for fast-track rehabilitation of sick companies. In January, RBI released a regulatory framework for early recognition and revitalization of distressed assets detailing steps to spot problems and quick action upon the first signs of stress.
The framework also proposes a structure to incentivize banks for faster action regarding restructuring or sale of assets. A&M believes the guidelines will aid in arresting the deterioration of economic value, and increase deal-flow to asset reconstruction companies, special situation funds and stressed asset investors. In addition, the guidelines ease the process for lenders to change management and rehabilitate stressed borrowers. This, in turn, will allow these companies to survive and preserve jobs.
During FY 2014-15, proactive recognition of stressed assets through incentives and penalties, tightening the corporate debt restructuring process and making management change easier will help banks address stressed assets. The pressure to change, while unpleasant, can be seen as an opportunity to revisit the fundamentals of the system, and to usher in ideas to strengthen the foundation of India’s financial systems and the economy as a whole.
To read in more about A&M’s research findings and recommendations, download Outlook for Stressed Assets Markets in India.
Key Contact:
Nikhil Shah
Managing Director
nshah@alvarezandmarsal.com
For More Information:
Alvarez & Marsal India
↧
Outlook for India's Stressed Assets Market
↧